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THE CANADA DEVELOPMENT CORPORATION:
A PROPOSAL TO RECONCILE ITS CONFLICT OF OBJECTIVES
The Journal of International Law and Economics,
George Washington University, 1974.
From the moment of its inception the Canada
Development Corporation (CDC) has suffered the agonies of split personality.
On the one hand it is supposed to maximize profits; on the other, it is
supposed to act in the Canadian national interest. With CDC's successful
take-over of Texasgulf, Inc., in the latter part of 1973, the need to resolve
this conflict of purpose has assumed special importance. The investment
in Texasgulf amounts to 93~ of CDC's investments in the shares of other
companies and 40~o of its total assets.' CDC's management policies also
now assume international significance because Texasgulf is an important
multinational natural resource company.
Although the legislation which established the
CDC provides for the issuing of shares to the public,2 the CDC would be
well advised to postpone this public issue until it decides whether to
give primary emphasis to its profit goal or its national interest goal.
The purpose of this paper is to assess how the CDC might order and implement
its goals. In evaluating which way the CDC should turn, regard must be
taken of the historical context in which it was created, the stated reasons
for its enactment, and the legal and economic consequences of choosing
one alternative goal instead of the other.
Canadian economic policy was given its first
formal articulation in 1870 by the Progressive Conservative government
of Sir John A. MacDonald; it was dubbed the "National Policy." The policy
was aimed at creating a national market by linking the country from sea
to sea with a railway transportation system and by giving tariff protection
to Canadian industry. But it is one of the great ironies of Canadian economic
history that while the National Policy was intended to encourage the development
of Canadian business, it was actually a significant cause of its Americanization.
The phenomenon was certainly not expected, and its development was so subtle
that it was not until the 1930's and 1940's that Canadian scholars began
to scrutinize it.
The primary factor leading to this result was the tariff structure. The tariff was intended to exclude manufacturers in the United States from competing for the Canadian market by artificially boosting, beyond the competitive level, the sales prices of goods produced in the United States and shipped across the border. The effect of the tariff was to encourage foreign businessmen to set up production sites inside the tariff wall.
In the fifty year period following Confederation, the principal source of foreign investment in Canada was the London bond market, and direct investment amounted to no more than one third of all foreign investment.3 However, by 1968, 34.2 percent of all Canadian corporate assets4 in the non-financial industries, as well as 40.3 percent of corporate shares, 35.1 percent of corporate sales, 43.8 percent of corporate profits and 47.7 percent of taxable corporate income, were in the hands of non-Canadian owned firms.5 In 1967, about 81% of all foreign investment in Canada came from the United States.5
The tariff, though a principal contributor to the rise of direct foreign investments, need not bear all the responsibility. Another factor contributing to the Americanization of Canadian industry was the tendency toward concentration of ownership in industry, with all the corollary effects of this process. The essence of this phenomenon has been elaborated in many different ways, but we may summarize these discussions in a few points. The forces of competition in the developed countries began to compel producers to seek maximum advantage of economies of scale by concentrating their capital and integrating the production of raw materials, the manufacture of finished goods and the distribution of those goods to the consumer into one organization. This integrated operation would serve as large a market as could be found and the market would be planned. This process manifested itself in Canada by significant increases of foreign control in the mining and smelting industries (from 49~o in 1939 to 65% by 1963), and manufacturing industries (up to 58% by 1967).' By 1963, 75% of Canada's petroleum and natural gas industries were foreign controlled. The only sectors of the Canadian economy remaining firmly under Canadian control were the pulp and paper industry, transportation and communication systems, public utilities, banks (to a lesser extent, other financial institutions) and certain strategic resources such as uranium-
.8 There are important dimensions to the change in the nature of Canada's capital indebtedness from loan with fixed interest to direct investment. For one thing, whereas loan capital absorbs a constant percentage of national income, returns to direct investment increase with the prosperity and growth of the economy. While fixed interest loans may eventually be paid off, direct investment permanently alienates control of the project. Since one of the essential characteristics of the multinational corporation is its planning function, many important decisions on the allocation of Canadian resources are made by foreigners. Also, since the multinational corporation is operated as an integrated unit, decisions respecting branches in other countries are made in the interest of the company, rather than of the country in which the branch is located. This situation is exactly the opposite to that of a century earlier when Canadian entrepreneurs borrowed at fixed interest rates and retained control of the decision-making process.
The relevance of this historical summary is to
indicate the unique nature of Canada's problem with respect to foreign
investment. Imposition of controls on the entry of capital, such as many
countries now enforce, would only resolve a part of the problem. What Canada
needs, in addition to entry and expansion controls, is a buy-back vehicle.'Á
As we shall see, this is the intended role of the CDC.
Reconsideration by Canadian officials of foreign
investment policy began with the Report of the Royal Commission on Canada's
Economic Prospects." The Commission was chaired by Walter Gordon, who would
later become Finance Minister for the notorious Liberal budget of 1963.
Mr. Gordon's Committee devoted a special section of its preliminary report
to the question of American ownership of Canadian industry and recommended
that greater disclosure be required regarding the operations of American-owned
companies. The Commission also recommended the implementation of incentives
to encourage subsidiary purchases from local suppliers, the sale of up
to 25 percent of the equity in foreign-held companies to Canadians, and
the appointment of Canadians to top executive positions.'2
The most controversial of the Commission's recommendation was that larger American multinational corporations make available equity stock in their subsidiaries to Canadians. The proposal got an antagonistic reception. Critics argued that, on the one hand, the proposals would cause problems in the multinational corporation's ability to control the operations of its subsidiary, and that, on the other hand, the measure would give Canadians very little decisive say in any event. Further, Canadian capital might be better spent on new projects than on repatriation of well-financed foreign projects.
When the Report was tabled by the Government, it provoked enough negative reaction that it seemed destined to be filed as quickly and as quietly as possible in some obscure cabinet somewhere in the Government buildings-there to be mercifully forgotten. But, contrary to these expectations, the Report actually served to generate interest in the issue at the grass roots level, and there was enough pressure to induce the Liberal government in 1963 to set up a Special Committee under Mr. Gordon's Department of Finance to prepare another report on the question of Americanization of Canadian industry.'3
The Committee recommended that the amount of public disclosure required of foreign firms be increased." The Dominion Bureau of Statistics would gather data on a confidential basis and issue aggregate reports; individual government agencies would gather on a confidential basis information for purposes of law enforcement. The Federal Government would exercise its jurisdiction over dominion-incorporated companies and encourage provincial governments to cooperate in obtaining disclosures from provincially-incorporated firms. Should the provinces prove unwilling to do this, the Federal Government was to exercise its power under the Bankruptcy Act to compel the disclosures. The Committee also recommended lowering of the tariff and strengthening of Canada's anti-monopoly legislation, though it chose not to elaborate on either of these suggestions. Another of the Committee's recommendations was developed to meet the problem of the extra-territorial effect of American export laws on the trading policy of American subsidiaries in Canada. The Committee recommended that it be made a criminal offense for any operations in Canada to comply with American anti-trust orders and export guidelines, where these conflicted with Canadian policy. A special board was to be established with the power to hear and investigate complaints from foreign buyers whose offers had been refused in compliance with foreign laws. The board would also promote trade with Communist countries.'5
Finally, the Committee recommended that Canadian equity participation in Canadian industries be encouraged by tax incentives and by the creation of a Canada Development Corporation which would be a holding company with entrepreneurial and management functions and would assume a leadership role in Canada's business and financial community.'6
The idea behind the CDC appears to have been borrowed by the governing Liberals from the New Democratic Party (NDP), the socialist (or social democratic) party of Canada. At its 1961 founding convention, the NDP had adopted as part of its platform the establishment of a Canada Development Fund, which was to be a massive fund used to stimulate the economy and guarantee its independence.
The idealistic Mr. Gordon used his 1963 budget as an occasion to seek implementation of some of the Committee's recommendations." The budget provided extra depletion allowances to companies having at least 25 percent Canadian ownership, and also provided for a 30 percent take-over tax on sales of shares in listed Canadian companies to non-resident individuals and corporations. To encourage partial Canadian ownership, it also recommended changes in the withholding tax rate on dividends paid to non-residents. The reception given these recommendations is almost Canadian folklore, for Mr. Gordon's critics forced the withdrawal of the proposals, destroyed Mr. Gordon's credibility and his political career and almost brought down the Government.
However, the Canada Development Corporation idea was resurrected in 1965. In the Speech from the Throne, the Liberal Government pledged that the corporation would "assist in financing major new industrial development and in increasing Canadian ownership of business corporations."8 The pledge was renewed in 1966,'~ 1967,2Á 19682' in speeches from the Throne, and was endorsed in 1969 by Minister of Finance Benson.22 Finally, on January 25, 1971, Finance Minister Benson introduced for First Reading in the House of Commons the bill (C-219) to create the Canada Development Corporation.23 Prior to the bill's introduction, the CDC had generally been considered as one part of a comprehensive policy concerning foreign ownership. Its introduction, while the whole question of foreign investment and ownership in Canada was still under review at the ministerial level, quickly dispelled that notion. In the words of Finance Minister Benson, the legislation was intended to "stand on its own."24 Section 2 of the Bill as enacted declares:
The purpose of this Act is to establish a corporation that will help develop and maintain strong Canadian controlled and managed corporations in the private section of the economy and will give Canadians greater opportunities to invest and participate in the economic development of Canada.25
The Act provides that the objects of the company are:
(a) to assist in the creation or development of businesses, resources, properties and industries of Canada; (b) to expand, widen and develop opportunities for Canadians to participate in the economic development of Canada through the application of their skills and capital; (c) to invest in the shares or securities of any corporation owning property or carrying on business related to the economic interests of Canada; and (d) to invest in ventures or enterprises, including the acquisition of property, likely to benefit Canada; and shall be carried out in anticipation of profit and in the best interests of the shareholders as a whole.2~
This statement of objectives may be interpreted in any of several ways:
1. That the CDC is to carry investments of benefit to Canada and profitable to shareholders;
2. That the CDC may invest in any profitable venture provided it does not harm Canadian interests;
3. That the CDC may invest in ventures beneficial to Canada but only those which will yield some return, however small;
4. That the CDC must invest in operations that are of benefit to Canada even if they lose money;
5. That the CDC may invest in profitable ventures even if they harm Canadian national interests.
The first of these alternatives best accommodates the language of the Act but it assumes unrealistically that no choice will ever have to be made between the goals of profit and national interest. Admittedly, the CDC may be able to avoid entering upon investments which appear either unprofitable or of negligible national value. But what is the CDC to do when a nationally valuable investment held by CDC begins losing money? Or what is the CDC to do if a held company saves its profits at the expense of the national interest? What would be the CDC's response to a request from the management of a controlled corporation to shut down one of its Canadian resource processing plants and switch the activity to Taiwan?
If the fourth alternative were followed, the CDC would force the corporation to continue its Canadian processing even though a drain on the equity of the shareholders would result. If the fifth alternative were followed, the CDC would encourage the transfer as this would increase profits. But neither of these alternatives is entirely consistent with the apparently dual objectives of the CDC.
If it could be demonstrated that the transfer of processing to Taiwan would enable another industry to establish itself in Canada, importing the relatively inexpensive Taiwan intermediate goods, then the situation would be that of alternative two; thus the venture would be profitable for the shareholders and neutral with respect to the national interest. The question arises, however, whether the government should be using taxpayers' money to fund projects unless they will be of positive and unqualified benefit to Canada. On the other hand, the Canadian project might be saved by an investment in a new technology that would cut costs of production but reduce the rate of return. But why would the investing public settle for a lesser rate of return on investments with the CDC? Would the public not switch to other stocks? The point is that there seems to be an irreconcilable conflict in the CDC goals as stated in Sections 2 and 6 of the Act.
Nor are the other sections of the Act of great assistance in clarifying the ambiguity. The CDC is designed to be a widely held investment company. Thus it has an authorized capital of 200 million common shares without nominal or par value27 and of $1,000 million in preferred shares.Z8 No shareholder, except the Federal Government, may control more than 3 percent of the voting shares of the CDC.7~ The Federal Government may at its option purchase up to 10 percent of the voting shares. It can go beyond the 10 percent limit provided its equity investment does not exceed $250 million. However, the CDC may at its option redeem such number of common shares as equals the number of voting shares in excess of the Federal Government's 10 percent limit.3Á
The responsibility for management of the Corporation is vested in the directors.3l The initial number of directors-subject to modification by a general meeting-is to vary between 18 and 21 persons elected by the shareholders;32 but the Federal Government retains a significant power of appointment of directors. When the number of shares held by the Federal Government exceeds 50% of the outstanding total, then two cabinet members are installed ex officio on the Board of Directors.33 Also, the Minister of Finance, no matter how insignificant the Federal Government's holdings of CDC shares, may appoint as many as four directors in lieu of voting the Government shares.33
Thus the hybrid nature of the CDC pervades all its aspects. Though the CDC is intended to issue shares, the Federal Government has first rights on CDC's of the outstanding shares. While the directors are not compelled to report to the Federal Government on their activities, the Federal Government may, by retaining even a minimal shareholding, control the appointment of about 20% of the directors.
Nor is the legislative history of the Act of any great assistance in ascertaining the true object of the CDC. In introducing the Bill, the Minister of Finance indicated that the CDC would "act in the broad area in which the national interest and the profit motive are compatible."35 Very early in the debate on the Bill a controversy arose as to whether it should be treated as a public or a private bill or a "hybrid." The Speaker ruled that there was in Canadian Parliamentary procedure no such thing as a hybrid bill and went on to find the Bill to be public in nature. But his ruling is of little assistance in ascertaining the primary object of the CDC. Thus the Speaker, finding in the objects clause of the Bill a declaration of public policy, ruled that:
It is all very well to say that [the directors of the CDC] should work in the national interest as well as the interest of the shareholders, but what does this mean in practice? To what extent if any will the national interest justify or indeed require investments offering less than maximum profits to the shareholders of the corporation?32
The Opposition Conservative Party took the view that the Bill should be referred to the parliamentary committee and that it should be considered in the light of the expected ministerial report on foreign investment.33
The New Democratic Party interpreted the legislation
to mean that the "principal motivation" of the CDC is the maximization
of profit.3r The N.D.P. tried unsuccessfully to have the corporation converted
into a Crown corporation that would act solely in the service of the national
interest.4 By way of summary, the CDC was created in response to the problem
of foreign ownership of Canadian industry. However, the CDC's role is independent
of other measures also aimed at the problem of foreign ownership. Under
the terms ~f i~7 enacting legislation the CDC is to serve the private interest
of its shareholders and the national interests of Canada. There are no
guidelines in the legislation and few reliable clues in the legislative
history of the Act to indicate how a potential conflict between these goals
should be resolved. Therefore, the management of the CDC is, for practical
purposes, free to choose its primary objective. Management's decision however
should be made in the light of the potential legal and economic consequences
of its choice.
The first test of the legal implications of
the CDC's hybrid nature came with its spectacular take-over of Texasgulf,
Inc. Texasgulf typified the kind of operation that motivated Canadian leaders
to take action against foreign investments in Canada. Assets of the corporation
in 1972 totaled $711.5 million, with a net income of $30.5 million.4l Evidently,
68% of the corporation's operating income was generated in Canada, yet
only one of the eleven directors was Canadian and the senior Canadian in
management reported to an American Vice-President in Toronto.'2 Texasgulf
was a resource based company, specializing in minerals, oil and gas-precisely
the kind of activity that the CDC was most anxious to take up.
The CDC had first considered Texasgulf as a possible target in February or March of 1972. In the spring of 1973, CDC contacted Noranda Mines Ltd. to see what involvement that company might wish to have in the Texasgulf initiative, and also to get the benefit of some of the company's expert knowledge. Indeed, Noranda even acted as agent for the CDC in buying Texasgulf shares. On July 23, the CDC obtained a line of credit from the Toronto-Dominion Bank for $160 million and an equity investment by the Federal Government of $75 million. On July 24, the Board of Directors of the CDC agreed to offer $29 a share ($5 above the existing market price) for 10 million of 30,385,000 outstanding shares of Texasgulf, which would give the CDC effective control. The offer was made public on July 25, 1973.43
The management of Texasgulf received the notice of the take-over offer as "a Pearl Harbor like attack with the avowed purpose of stunning [Texasgulfl and overwhelming them."44 On July 27, 1973, Texasgulf filed suit. The appeal to the Southern District Court of Texas was cast in "poignant" terms,45 but the substance of Texasgulf's arguments failed to strike a responsive chord. Judge Seals dismissed as unsupportable on the facts the allegation by Texasgulf that the soliciting documents were false and misleading, contained untrue statements of material facts and omitted material facts in violation of Section 14 (d) and (e) of the Securities and Exchange Act of 1934 ['34 Act].4'' More specifically, the Court found that there was no agreement between Noranda and the CDC to take over Texasgulf; in fact, Noranda had expressly refused to join the CDC in the take-over bid. Moreover, contrary to Texasgulf's allegation, the Court found that the CDC never had agreements with other Texasgulf shareholders, so as to put the CDC in violation of Section 13 (d)(l) of the '34 Act filing requirements47 for groups acquiring in excess of 5% of any class of equity security.48
Judge Seals dismissed Texasgulf's contention that the CDC was in violation of the Clayton Act. Texasgulf relied on recent judicial interpretations of the Act prohibiting potential entrants into a market from entering by acquisition to the detriment of competition.4'' But the Judge held that these cases applicable only to "operating" companies and not to companies such as the CDC, which is an investment company possessing neither the expertise nor manpower to participate in day-to-day decisions.5Á
Texasgulf further alleged that the CDC take-over would be in violation of a Texas statute requiring that a majority of shares in international trading corporations created under Texas law be owned by United States citizens.5l However, Judge Seals held that the statute was at the time of its enactment intended to apply only to international marketers of goods. The statute could not apply to a processor of natural resources marketed internationally, since no such creatures existed at the time the statute was enacted.57
Finally, the Court considered the Texasgulf argument that the CDC, because its objects clause required it to pursue the national goals of Canada, might operate Texasgulf to the detriment of the company's holdings outside of Canada. Texasgulf presented Ivan Feltham of Osgoode Hall Law School of York University in Toronto who interpreted the objects of the corporation.
Judge Seals seems to have decided that the Texasgulf suit should be dismissed and seized upon the handiest arguments to justify his conclusion. He was evidently unmoved by the emotional nature of Texasgulf's argument, possibly because it came from persons who were the unsuccessful defendants in a landmark insider fraud case.58 Thus, the Judge incorporated in his opinion the embarrassingly emotional appeal by the counsel for Texasgulf.59 He also made short shrift of a seemingly good argument that Texasgulf was an international trading company. In dealing with the conflict of interest problem, Judge Seals clearly exposed his feelings.
It appears incorrect, however, to draw an analogy, as did Judge Seals, between a Canadian director in a multinational corporation torn between his legal duty to the corporation and his patriotic duty to his country, and a director of the CDC who has legal duties to both his company and his country under the objects clause of the Incorporating Act. If a director of an ordinary company compromised his legal duty to the company in order to advance his country's interests, there might indeed be a derivative suit. But the CDC is no ordinary company. In any derivative suit, such as contemplated by Judge Seals, the Canadian directors would be joined as defendants and their actions against the corporate interest would form the basis of the complaint.32 In reply, the Canadian directors could argue that American courts have traditionally declined to challenge the effect of foreign statutes even where their effects extended to matters involving American interests. For instance, in the case of French v. Banco Nacional de Cuba, the Court of Appeals of New York invoked the act of state doctrine in denying a suit for damages against a Cuban bank which was compelled by currency restrictions issued by a Cuban governmental agency to dishonor a contract with the plaintiff.33
In the situation at hand, it could be argued that the Canadian directors, like the Cuban bank, because they are required by act of the local sovereign power to conduct themselves in particular ways, are immune from the remedies ordinarily available against them in American courts. Thus CDC conduct, to the extent that it is dictated by a Canadian statute, would not sustain a cause of action in an American court.
Even if the American court allowed a derivative suit, it is not clear that such a ruling would definitively resolve the dispute. CDC would still be bound by Canadian law to heed the Canadian interest. One exit from this unseemly confrontation would be for either the American or the Canadian authorities to back down.34 A solution, such as forcing CDC to divest itself of the American operations, perhaps on some anti-trust ground, would only cause the American shareholders greater hardship as CDC's targets will usually be in companies whose most valuable holdings are in Canada.
In short, Judge Seals' confidence in the availability of a derivative suit to protect the American shareholders against actions by CDC's directors is unwarranted. Another court, if it did not share Judge Seals' confidence in the availability of the derivative suit to protect the American shareholders, might well decide the case another way.
What may safely be concluded from Judge Seals' decision is that a court seized of the question is likely to decide that the objects of the CDC may put the directors in a conflict of interest situation. Judge Seals interprets the corporate interest as predominating so that a right of action would exist if it were violated. On the other hand, the corporate interest is not absolute, because the directors must "keep the development of Canada in mind while operating the company . . . for profit."fl5 Thus we may conclude that so long as the objects clause gives a predominating role to the corporate interest, there will not likely be any legal limitations on CDC's freedom of action in the United States flowing from its objects clause. But another court might with equally good reason find the national interest to be predominating. The Texasgulf case gives few clues to the implications of such a finding. But it is manifestly important to anticipate how CDC might respond to a finding by an American court that CDC's national purpose is predominating.
Since the vast majority of foreign direct investments in Canada is American-owned,50 the question would likely arise in the context of a take-over of an American corporation. Whether the target corporation resisted in the courts of the United States or those of Canada, the applicable law would be that of the country in which the corporation derived its existence, that is, where it was incorporated.57 An American corporation would probably prefer the more familiar arena of an American court in which to wage its defense. In the United States, matters of incorporation are subject to state jurisdiction.08 While each state has statutes governing corporations, fiduciary duties have generally been left as a matter of common law. The common law traditionally proscribes directors from diverting their interests away from the corporation for which they are responsible.0~ But the limitations on pursuit by directors of social, non-profit goals, have not been finally determined.
A recent American case, Medical Committee for Human Rights v. SEC,7Á is especially interesting in this connection. In this case, a group of shareholders attempted through the use of the proxy machinery to challenge the management of Dow Chemical Company on the issue of its production and sales of military hardware. The court was asked to pass judgment on a Commission "no-action letter" concerning the exclusion by the management of Dow Chemical Company of a shareholder proposal calling upon management to consider the advisability of discontinuing sales of materials to be used against human beings. The court distinguished a line of authorities upholding exclusions of similar proposals, arguing that these proposals were not excluded as being of general social import. The court's narrow ruling was that neither management nor the Commission had satisfactorily discharged the burden of proving that the excluded proposal fell within one of the exclusionary rules. Although the actual order was only for a remand for proper reconsideration by the SEC, the opinion revealed a new attitude toward corporation decision-making. Judge Tamm criticized Dow's management for their patently illegitimate claim of power to treat modern corporations with their vast resources as personal satrapies implementing personal, political or moral predelictions.7'
By the time the Medical Committee case reached the Supreme Court,72 it had become moot. Dow's management had in 1971 included the proposal on their proxy but the resolution received such small support that it could not be forced into the proxy statement again for three years. However, of the seven-member court, not one decision contested the Appeal Court's comments on corporate responsibility. Indeed, Mr. Justice Douglas filed an opinion in which he disputed the holding that the issue had become moot. He went on to say:
The philosophy of our times, I think, requires that such enterprises (as Dow) be held to a higher standard than that of the "morals of the marketplace" which exists a single-minded, myopic determination to maximize profits as the traditional be all and end-all of corporate concern.'3
However, it would be unrealistic to suggest that an American court would have the same sympathy for pursuit by a multinational corporation of Canadian national interests as it would for the pursuit of humanitarian goals such as were at issue in the Medical Committee case. Ordinarily, one would not expect American courts to render American shareholders and workers vulnerable to injury for the benefit of Canada.
Judge Seals was well aware of the policy implications of his decision. Having noted that most of the world's largest multinationals are American, Judge Seals asked rhetorically:
The Judge recognized a need for the United States to formulate a policy toward the "real or . . . imaginary threat of the multinational corporation''.~S But commenting on foreign corporations which act as instruments of national policy, Judge Seals observed:
It seems to this Court that if the threat is real, it makes little difference if the foreign multinational is government owned and controlled or not. If it is government controlled, at least we will know 'our enemy' and to whom it owes this allegiance, and through diplomacy and treaties could balance their political influence and their economic power.'~
In the end, however, Judge Seals felt overwhelmed by the immensity of the policy questions generated by multinational corporations:
It is an issue of public policy and national interest as to the role multinationals will play in the future, but this Court cannot decide generally in the context of this case what this role may be . How can a court of law or equity even consider a problem so complex, hard and difficult? Only the Congress or the Executive Branch has the resources to determine what is in the best interest of this country in the increasing problems of multinationals."
Finally, we can see the ideal approach for the CDC to take when the conflict of interest issue arises, as it inevitably will, in American courts. If the court can be persuaded, as was Judge Seals, that the primary goal of the corporation is profit-making, then the problem disappears. But another judge in a different case might well decide that the ultimate objective of the CDC is to advance Canadian national interests. In anticipation of such a conclusion, three arguments can be made:
1. That corporations are no longer unidimensionally fixed on profit-making. It is no longer illegitimate for corporations to be responsive to social, or national, goals. Therefore, the directors of the CDC would not be breaking any corporate duty under American law by considering the national interest of Canada, as they are directed by the CDC Act.
2. Policy considerations dictate that American courts keep their laws as open to foreign investment as foreign laws are expected to be toward American investment. American judicial rules must not limit investments by instrumentalities of foreign governments conducting commercial activities.
3. American policy toward foreign multinationals
is a matter of politics outside the role of the American courts.
So far this paper has attempted to summarize
the problem which the CDC was designed to meet, to relate the legislative
history of the statute to its objectives and assess the legal implications
of the conflict among the possible goals of the corporation. But to complete
the picture some observations must be made about the economic realities
facing the CDC in its choice of policy priorities. If the CDC hopes to
become a widely held corporation, the achievement of this goal is dependent
on the public's interest in acquiring the shares. In this connection CDC
may choose to appeal to the small investor. Its competition for the small
shareholder's dollar would consist of domestic and foreign mutual funds,
pension plans and insurance companies. Also, the CDC might aim its appeal
at the institutional investors themselves.
In either case, one thing is clear: the CDC will have to offer a competitive yield. It is generally unrealistic to expect investors, whatever the sizes of their portfolios, to invest out of nationalistic sentiment, except perhaps in the highly charged situation of war bonds, and nobody argues that such a sentiment exists today. Nor is it realistic for the CDC to expect that it can yield a competitive return while allowing for satisfaction of national interests. It would be even more foolhardy to hope to convince investors that such a performance could be maintained over the long run. The case of the Soci&eacyte;térale de Financement du Québec illustrates the point. The Société shared CDC's extraordinary duality of function. When its shares were issued they sold at $10 each. When it stepped in to assist an ailing lumber industry and failed, investors lost interest and trading prices dropped drastically. On February 28, 1973, the Société offered to repurchase the issued shares at $10 per share to rescue investors.'8
It is, therefore, essential for business reasons that the public be convinced that the CDC will maximize profits, but can this be done? My own impression is that it will be a long time before Canadian investors will be fully convinced that CDC's ultimate objective is profit. The delay on CDC's share issue scheduled for the beginning of 1974'~ (with no sale in sight) may be attributed to the bearishness of the market. Some support for CDC's confidence that its share issue will be well received by the market might be inferred from the placement of $100 million in preferred shares with a group of twenty major Canadian financial institutions and business corporations.8Á On the other hand, it is interesting that the sale agreement gives the purchasers the right to require redemption by the CDC at par after five years from the issue date. Although CDC has a corresponding right to redeem, the call right given to the purchasers is rather novel. It is a matter for speculation as to what considerations caused the purchasers to seek such a clause. Generally, however, it does suggest an element of purchaser bargaining strength which may be associated with buyer hesitation to become involved with the CDC, perhaps because of uncertainty about CDC's long-range priorities. In any case, it remains problematic whether investors will have confidence that not only the present government but future governments will continue to allow CDC to give priority to the profit rather than the national goal.
As an alternative to a public issue, the government could protract the public sector's financial involvement indefinitely and keep the CDC as a de facto Crown corporation. This would coincide with the Socialist Party demand for change in the existing structure. There is considerable merit in the Crown corporation idea. The government is perhaps in the best position to ensure that held corporations are managed in the national interest. And the government has extensive resources at its disposal not to speak of ready access to the money and capital markets. Indeed, a Crown corporation may be desirable for certain purposes. But the idea of getting equity into the hands of individual Canadians is valid in its own right and deserves to be pursued.
If CDC has difficulty selling its own shares to the public, there is still another mechanism by which to transfer control of major enterprises into the hands of Canadian shareholders. CDC could resell the shares it acquires as a complement to the issue of its own shares. Of course, as long as CDC retained control, the held company would arguably have to be operated in the national interest. Thus its shares would be no more attractive to investors than CDC's. But if CDC sold its controlling interest, then the held company's shares should be marketable under the normal conditions. Of course, CDC is intended to be a holding company of a mutual-fund nature, but it also has the power
Assuming that such restrictions were valid in Canada, would there be any legal problems from the American side? American commercial law would become relevant if the proper law of the resale contract or the law agreed upon by the parties to the resale contract were American. American securities laws might become relevant if there were an effect on interests of American shareholders in a U.S. incorporated company whose shares are traded on the U.S. market, even if the applicable law of the resale contract were Canadian.84
In the context of American securities laws, the questions are whether there would be any effect on the U.S. market following from Canadian restrictions on alienation and whether the cause of the effect would be wrongful within the terms of the U.S. securities laws.
As to the first issue, the effect of CDC restrictions on resale to non-residents would be to create an enclave market of Canadian residents. Theoretically, the enclave market price could differ from the free market price. Because of the restrictions on their resale, the CDC shares would tend to sell at a lower price than the free shares. Canadian investors might then prefer to buy CDC held shares than shares traded by American residents. To that extent the shares of the American residents could be depressed in value.
Section 2 of the '34 Exchange Act embodies the concern of Congress that manipulative devices may depress stock prices, thus disrupting interstate commerce and hindering the government's revenue collection process. Section lO(b) authorizes the SEC to proscribe manipulative practices by such rules as are appropriate or necessary in the public interest. Rule lOb-5 of the Commission provides:
It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange,
(a) To employ any device, scheme, or artifice to defraud,
(b) To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or
(c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person,
in connection with the purchase or sale of any security.~'~ Especially in recent years, the growth of this section has been spectacular, but, in general, the rule has been invoked in cases which have exhibited elements of deception. A CDC tender offer could make clear that the purchased stock would be legended to prevent resale outside of Canada and might warn of the depressing effect of such a restriction on the U.S. held shares, but this would not necessarily protect CDC from injunctive proceedings under Rule lOb-5. In a 1967 case, the United States Court of Appeals for the Second Circuit ruled that the deception contemplated by Rule lOb-5:
Of course the CDC's purpose is not to buy out minorities at bargain prices, but that might be the effect of their restrictions on alienation. Whether CDC could maintain that the results of their actions were not deliberate where the actions were taken with consciousness of the effects is problematic. If the legend on the stock were successfully challenged in an American court, CDC might be inclined to resist the American court's jurisdiction over CDC. But that defense would be of no avail because the American purchaser could rely on a declaration obtained in an action with his vendor, CDC's buyer. Thus, CDC could not protect the legend on the stock by refusing to submit to the American court's jurisdiction. Even if the American courts were prepared to uphold the restriction on resale to non-Canadian buyers, CDC's ability to enforce it would be limited. Thus, while CDC could theoretically enjoin the resale, in practical terms, it would have no notice of the sale. CDC could sue for rescission; but the Canadian middleman would be left with his profit, and would thus have every reason to break his agreement with CDC.
A successful suit for damages, brought in a Canadian court against CDC's buyer, would only give CDC compensation for the damages contemplated by the parties at the time of the agreement to flow from a breach of the agreement. Still, such an award would likely deter middlemen from reselling outside of Canada. In the present circumstances, the Canadian middleman, having given up his shares, might have to pay CDC the amount necessary for CDC to replace the shares sold outside of Canada.8D But even if CDC's purchasers could be compelled to resell only to Canadian residents, there would be no mechanism by which CDC could prevent Canadian ownership from becoming so dispersed as to transfer effective control back across the border.
There is still one other alternative by which CDC could put equity in the hands of Canadians: CDC could write into its agreement of sale of the held company's shares a right of first refusal on their resale. In the United States, it has been held that a contract for the exchange of corporate stock providing that one party shall not sell the stock received by him within one year of such receipt, without first offering it to the other party, is not an invalid restraint on the transfer of property.~ Nor is it likely that a right of first refusal would violate American securities laws since the arrangement would not seriously distort market prices.
Also, judicious exercise of its right of first
refusal would permit CDC to guard against too great a dispersion of ownership
in Canada, and any consequent transfer of effective control back to the
United States.
A policy of reselling the shares of held companies
subject to a right of first refusal on further transfers is the policy
which would best accommodate CDC's varied purposes. By targeting for take-over
only those profitable industries and companies of significance to the Canadian
economy, the CDC would satisfy its public responsibility. By reselling
the shares to Canadians, equity would be transferred to Canadian shareholders.
Also, CDC would earn revenues with which to finance other operations. The
right of first refusal on further transfers would give CDC a flexible mechanism
by which to ensure that control stays in Canada, while avoiding legal problems
in the U.S.
Whether CDC should now resell its Texasgulf shares
subject to the right of first refusal is a business decision. Certainly,
given the significance of Texasgulf in CDC's portfolio, the CDC share price
will mirror TexasgulPs strength or weakness. Indeed, it is unlikely that
the Texasgulf shares would be less attractive than the CDC shares. Sale
by CDC of its controlling interest in Texasgulf would capitalize on Texasgulf's
strength and would circumvent any investor uncertainties about CDC itself.
As it appears that CDC has agreed for a period of two years not to sell
Texasgulf shares as a block other than to a subsidiary,~' there is some
question whether the proposed policy could be implemented with respect
to Texasgulf, at least within the near future. Nevertheless, one very useful
long-range course of action for CDC to adopt would be to resell its purchased
shares in major enterprises, subject to a right of first refusal on their
resale.
1. Canada Development Corporation, Annual Report 9-11 (1973) [hereinafter cited as Report.
2. See notes 25 and 79 supra, and accompanying text.
3. GOVERNMENT OF/ C N D, FOREIGN DIRECT INVESTMENT IN C N D 15 (1972). Though more recent data is now available, this information is cited because it represents what was available at the time of the creation of the CDC. However, not much has changed since that time, as an examination of the report under the Corporate and Labor Union Returns Act would indicate.
4. There is some double-counting of assets because a proportion of the non-financial firms' assets which are non-resident-owned are claims against affiliated firms. Id. at 17.
5. Id. at 17-18.
6. Id. at l5.
7. Id. at 20-21.
8. Id. at 21.
9. The construction of the Canadian Pacific Railroad is an example of Canadian reliance on debt as a means of financing major enterprises in the l9th Century. See P. BURTON, THE L LAST SPIKE (1971); published in the United States as THE IMPOSSIBLE RAILWAY (1970).
10. See HIRSCHM N, How to Disinvest in Latin America, and Why, in ESSAYS IN INTERNATIONAL FINANCE (1969).
11. ROYAL COMMISSION ON C N D S ECONOMIC PROSPECTS, PRELIMINARY REPORT 86-93 (1956) .
12. Id. at 91.
13. GORDON TO WATKINS TO YOU 75-81 (D. Godfrey & M. Watkins eds. 1970).
14. Id. at 76.
15. Id. at 79.
16. Id. at 80.
17. 2 PARL. DEB., H.C.996ff(Can.,1963).
18. 1 PARL. DEB., H.C.3(Can.,1965).
19. 1 PARL. DEB., H.C.9(Can.,1966).
20. 1 PARL. DEB., H.C.3(Can.,1967).
21. 1 PARL. DEB, H.C.8(Can.,1968).
22. 2 PARL. DEB, H.C.1264(Can.1969).
23. 3 PARL. DEB., H.C.2697(Can.,1971).
24. Id. at 2708.
25. Canada Development Corporation Act, STAT. OF CALI., C. 4s, Û 2 (1s71).
26. Id. Û
27. Id. Û 9(a).
28. Id. Û 9(b).
29. Id. ÛÛ 36; 2, sched. 1; 3, sched. 1.
30. rd. ÛÛ 36 (l)(a),(b).
31. Id. Û 14.
32. ld. Û 11.
33. Id. Û 41.
34. Id. Û 40(1).
35. 4 PARL. DEB., H.C. 3618 (Can., 1971).
36. Id. at 3629.
37. Id. at 3871.
38. Id. at 3870.
39. Id. at 3880.
40. Id. at 3882.
41. See TEXASGULF, INC. AND CONS0LIDATED SUBS1DIARIES, ANNUAL REPORT (1972).
42. N.Y. Times, July 26, 1973, at 53, COI. 3.
43. Texasgulf, Inc. v. Canada Development Corporation, 366 F. Supp. 374, 385 (S.D. Tex. 1973).
44. Id. at 379.
45. Id. at 380.
46. 15 U.S.C. Û 78(d) & (e) (1970).
47. 15 U.S.C. ~ 78m(d)(1) (1970).
48. 366 F. Supp. 403-4.
49. 366 F. Supp. at 374. See Kennecott Copper Corp. v. FTC, 467 F.2d 67 (lOth Cir. 1972) and Bendix Corp. v. FTC, 450 F.2d 534 (6th Cir. 1971).
50. 366 F. Supp. at 408.
51. TEx. Rev. Clv. ST T. art. 1527 (Vernon 1922).
52. 366 F. Supp. at 414
53. Id. at 416-17.
54. Id. at 416.
55. Id. at 412.
56. Id. at 417.
57. Id. at 418.
58. SEC v. Texasgulf Sulfur Co., 401 F.2d 833 (2d Cir. 1968).
59. 366 F. Supp. at 380.
60. Id . at 411.
61. Id. at 419.
62. Joy v. North Texas Compress & Warehouse Co., 151 S.W.2d 342 (Tex. Ct. App. 1941); Castner v. First National Bank of Anchorage, 278 F.2d 376, 384 (9th Cir. 1960).
63. 295 N.Y.S.2d 433 (1968).
64. For an analysis of a head-on confrontation between French and American legal requirements, see Craig, Application of the Trading with the Enemy Act to Foreign Corporations Owned by Americans: Reflections on Fruehauf u. Massardy, 83 HARV. L. REV. 579(1969). Evidently the problem evaporated when the U.S. Department of State permitted the sale at issue.
65. 366 F. Supp. at 418.
66. See note 6 supra, and accompanying text.
67. Both in Canada and the U.S., matters internal to the corporation are decided by the law of the country of incorporation. See National Trust Co. Ltd. v. Ebro Irrigation and Power Co. Ltd., 3 D.L.R. 326 (Ont. H. Ct. 1954) and 20 C.J.S. Corporations Û 1794 (1956).
68. 16 C.J.S. Constitutional Law Û 325 (1956).
69. 19 C.J.S. Corporations Û 804 06 (1956).
70. 432 F.2d 659 (D.C. Cir. 1970), vacated as moot, 404 U.S. 403 (1973).
71. Id at 681.
72. SEC v. Medical Comm. for Human Right~, 404 U.S. 403 (1972).
73. Id. at 409-10.
74. 366 F. Supp. at 419.
75. Id. at 418.
76. Id. at 418-19.
77. Id. at 419.
78. THE FINANCIAL P0ST SURVEY Ol/ INDUSTRIALS, 1973, at 398-99.
79. REPORT, supra note 1 at 7.
80. Id.
81. Canada Corporation Act, Can. Rev.. 1970, c.32, Û 16(1)(c), incorporated by reference, Can. Dev. Corp. Act, 1 Stat. of Can. 1970-71-72, c.49 Û 7(1)(a).
82. Noble v. Alley, [1951] Can. S. Ct. 64 (1950) and in re Drummond Wren, 1l945 Ont. 778 (Sup. Ct. of Ont.).
83. Id.
84. Schoenbaum v. Firstbrook, 405 F.2d 200 (2d Cir. 1968), cert. denled, 395 U.S. 906 ( 1969) .
85.. 15 U.S.C. Û 78j(b) (1970); 17 C.F.R. Û 240.10b-5 (1973).
86. Mutual Shares Corp. v. Genesco, Inc., 1966-67 CCH Fed. Sec. L. Rep. n 91,983, at 96,345 (2d Cir., Aug. 14, 1967).
87. Id. at 96, 344-45.
88. See text accompanying notes 84-5 supra.
89. v. Czarnikow Ltd., [1969] 1 A.C. 350 (1967). See also, Haldey v. Baxendale, 9 Ex. 341, 96 Rev. R. 742 (1854), and Victoria Laundry Ltd. v. Newman Industries Ltd., [19491 2 K.B. 528 (C.A.). A liquidated damages clause would not greatly assist CDC. A liquidated damages provision, to be enforceable, could provide no more than a reasonable estimate of the damages incurred by CDC. Moose Jaw Industrialization Fund Committee Ltd. v. Chadwick, [1943] 2 W.W.R. 219 (K.B.) (Sask.).
90. Cities Service Securities Co. v. McFarland, 10 N.J. Misc. 577, 159 A. 800 (1932).
91. See note 79 supra, Notes to Consolidated Financial
Statements, Û 9(a).
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